OPEC may take action to prop up plunging oil prices

OPEC may take action to prop up oil pricesProduction cut could come next week, but some analysts wary

KRISTEN HAYS, Copyright 2008 Houston Chronicle

Published 5:30 am, Saturday, October 18, 2008

OPEC's swift move to meet next week sparked widespread assumptions that a substantial production cut is coming to bump oil prices to at least $80 a barrel, but not all seasoned analysts see it that way.

"I doubt that very much," said Fadel Gheit, an oil analyst with Oppenheimer & Co. in New York.

"I think OPEC is trying to talk up oil prices, but they could risk throwing the economy into a deeper recession. Higher prices hurt consumer confidence and spending, and that will make it difficult to pull out of a recession," Gheit said.

Mary Novak, an analyst with Global Insight, said only three of the 13 members of the Organization of the Petroleum Exporting Countries have the flexibility to cut production below quotas — Saudi Arabia, Qatar and the United Arab Emirates. Others, including Nigeria, Angola, Venezuela and Iran, are at or below quota levels and they need those oil dollars whether they come in at $140 or $70 a barrel, she said.

"We have this idea that they have flexibility they no longer have, both in terms of production and financial need. But they have bigger populations and social welfare programs, and they need every dollar they can get," she said.

On Friday, light sweet crude for November delivery rose $2 to close at $71.85 on the New York Mercantile Exchange — down 51 percent from the all-time high closing price of $145.29 on July 3.

Demand down globally

For consumers, the drop is showing up in falling gasoline prices, which averaged $3.04 a gallon nationally on Friday for regular, down 4 cents from Thursday,

In a note to investors Friday, Simmons & Company International called OPEC's decision to meet sooner a "smart move" because if the cartel waited until Nov. 18 as previously planned, "crude could have easily shifted into free fall."

Demand began eroding as oil prices rose into triple digits earlier this year amid growing economic troubles, pushing gasoline to $4 or more a gallon. U.S. demand has fallen nearly 9 percent.

Demand also is down in Europe, Japan, and the emerging economies of China and India.

Simmons noted that a study by the International Monetary Fund showed prices are already below what Iran needs to support its budget, and Venezuela likely faces the same squeeze. Both countries heavily subsidize energy for consumers.

Simmons projected that OPEC, which pumps 40 percent of the world's oil, might cut 1 million barrels a day to output of 31.2 million barrels. If the cartel implements such a cut — which would be 500,000 barrels a day below current quotas — and demand stops falling, oil prices will rise, Simmons said.

But if demand continues weakening amid economic concerns fueled by the financial crisis and winter weather is mild, a cut of 1 million barrels a day "may not be perceived to have been enough and oil prices could fall further."

Michael Economides, an oil expert at the University of Houston, said crude's fall has been devastating for OPEC members as well as Russia, which also is economically dependent on oil. He said Saudi Arabia is the only oil-rich nation able to tolerate crude below $80 a barrel.

"Whether Saudi plays along or not, that's the key. If they do, they will reduce production by 1 million barrels a day, which they can easily afford. Then you'll see the price of oil creeping back toward $100," he said.

Supply remains tight

But Gheit said that despite the fall in demand, supply remains tight. Production in non-OPEC countries was already falling, so supply outside of OPEC will come down on its own. A cut from the cartel will exacerbate bruised economies already smarting from the financial crisis and credit crunch.

"OPEC will be in a deep hole if global economies continue to sink as a result of higher oil prices," Gheit said.

For Houston, falling oil prices don't mean the city is facing anything similar to the 1980s oil bust. Experts say 52 percent of Houston's economy depends on energy, and high prices have helped insulate the city from effects of the financial crisis in other urban areas.

But crude's fall and correlating pullbacks in exploration and production spending could reduce that buffer, putting Houston on the same plane as other urban areas feeling the effects of the economic downturn.